14.1: The Money Demand Function
We predict that the willingness to hold monetary assets （like currency, checking deposits and
other liquid accounts） by individuals and institutions depends on （national） income or revenue
and interest rates （on non-monetary assets like illiquid CDs and long-term bonds）. Graph the
aggregate measure of monetary assets M2 versus nominal GDP （which represents the nominal income
earned from aggregate production） and graph M2 versus a measure of interest rates. If you know
how to do a three-dimensional graph, put nominal GDP and the interest rate on the horizontal axes
and M2 on the vertical axis. If you know regression analysis, use nominal GDP and the interest
rate as independent variables and M2 as the dependent variable. Show your analysis from
1959-present. Do you see a positive relationship between nominal GDP and M2 and a negative
relationship between the interest rate and M2?
Data: Go to the Federal Reserve System site http://research.stlouisfed.org/fred2/data/M2SL.txt
for M2. For GDP, go to http://research.stlouisfed.org/fred2/data/GDP.txt. And for interest rates,
use the interest rates （yields to maturity） on the safest （AAA） corporate bonds:
http://research.stlouisfed.org/fred2/data/AAA.txt. Because interest rate and M2 data are a
monthly series, and nominal GDP data is only available on a quarterly series, you will need to
create three month averages of interest rates and M2 to correspond with the nominal GDP data.
14.2: Money Growth and CPI
Create a graph similar to Figure 14-10 for the U.S. and other countries:
a. For the U.S., use two aggregate measures of monetary assets, M1 and M2, and graph each
of their changes versus the change in the Consumer Price Index （an index of prices
that consumers pay） from 1987-2006. Does one aggregate measure appear more closely
related to inflation than the other? Why might this be?
b. For 5-10 other countries, graph the change in M2 versus the change in the level of average
prices from 1987-2006 （or according to the available data）. Does a close relationship
appear for some countries and not for others? If you know regression analysis, use the
change in M2 as an independent variable and the level of prices as a dependent variable.
Does the independent variable explain most of the variability in the dependent variable
（that is, is the R-squared high）? Also, remember that your sample size is small, so
that the results should not be considered robust.
Data: For part a., go to the Federal Reserve System site at
http://research.stlouisfed.org/fred2/categories/24 to find data on M1 and M2. For the CPI, go
to http://research.stlouisfed.org/fred/data/cpi/cpiaucsl.
For part b., use the Bank for International Settlements site at http://www.bis.org, which has
links to various central banks that provide data on aggregate measures of monetary assets （try
to find consistent measures if you can）. For the CPI, the Economagic website at
http://www.economagic.com/blsint.htm provides data for several countries. Data on the CPI and
aggregate measures of monetary assets for some countries has also been generously provided by
the International Monetary Fund in this file macromonthly.xls.
14.3: Volatility in Price Level vs. Exchange Rates
Create a graph similar to Figure 14-11 for the U.S and other countries. In particular, graph the
exchange rates and relative level of average prices for Thailand and South Korea versus the U.S.
Were there times when exchange rate volatility was very low? Why might this have been? Hint: Think
about the exchange rate policies in these countries. What happened in 1997?
Data: Price level data from many countries have been generously provided by the International
Monetary Fund in the file macromonthly.xls. Scroll to the left to find the Consumer Price Index
data. The Federal Reserve System site http://research.stlouisfed.org/fred2/categories/15
provides data on exchange rates.